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The Errors of the Inflation Hawks, Part I

Monday, 9 May 2011 | 3:26 PM ET

Something has clearly gone wrong with the standard inflation hawk’s view of the world.

We’ve had a massive expansion of the monetary base, years of artificially low interest rates, and round after round of quantitative easing. The public is clamoring for a relief from its debt burden—something easily accomplished by inflating away the value of the debts they owe.

But we don’t have anything like the massive or hyper-inflation many hawks predicted. The supply of money in the economy has held steady.

Banks are actually reducing the amount of credit available, even while quantitative easing persists.

The problem is not that the Federal Reserve has failed to create inflation. Very clearly, the Fed can create inflation if it wants to.

As Fed chair Ben Bernanke famously observed, if the standard inflationary channels freeze up, the Fed can simply parachute extra currency from helicopters.

Look up in the air. Do you see the Bernanke Copters? Neither do I. We can conclude from this that the Fed isn’t embarking on the road to hyperinflation.

Indeed, the Fed seems to be very focused on keeping inflation expectations low—even while actual consumer prices are underperforming its stated inflation targets.

What’s going on? Why hasn’t all of that easy money flowed into the economy, sending prices soaring? And why isn’t the Fed destroying our currency to ameliorate the financial conditions our debt burdened consumers and government from their obligations?

In the next few posts I’ll answer these questions by showing that the inflation hawk view of the world is based on an outdated version of the financial system.

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